SHOULD I SELL CARBON CREDITS?

A Decision Guide for Ranchers

Prepared by the King Ranch

Institute for Ranch Management

Increasing public attention to climate issues has amplified pressure on many industries to develop

‘climate neutral’ systems. A central goal of most ‘climate neutral’ strategies is for an entity to

achieve ‘net zero’ carbon emissions by reducing direct emissions of greenhouse gases (GHG) where

possible and seeking sources of carbon dioxide (CO

) emissions offsets (often called ‘carbon

credits’) to balance emissions that cannot be eliminated. These ‘offsets’ or ‘credits’ represent CO

being removed from the atmosphere and stored. Land-based carbon accumulation has long been

considered an essential element of climate mitigation strategies, and is increasingly viewed as a

potential source of purchasable credits for those seeking to offset emissions. This article describes

the foundational concepts of carbon trading, risks associated with entering a carbon credit contract,

and market considerations. Our goal is to inform ranchers so the best decisions can be made in an

emerging and uncertain enterprise.

CARBON CREDITS AND CARBON CREDIT TRADING

What is a ‘Carbon Credit’?

A carbon credit represents one metric ton (1,000 kg) of CO

or CO

equivalents removed from the

atmosphere. From an accounting perspective, if the atmosphere is the ‘account’, then a release of

into the atmosphere is a ‘debit’ to that account, and removal of CO

from the atmosphere is a

‘credit’. A company may seek to reduce its emissions, but may not be able to completely eliminate

emissions. If they wish to achieve ‘net zero’ emissions, then they will seek ‘credits’ to their

atmospheric account that offset any remaining ‘debit’ amounts to balance the account. Sources of

carbon credits include those associated with natural processes that begin with photosynthesis of

plants. These are the focal point of this decision guide.

Creating a Carbon Credit

Plants effectively capture CO

from the atmosphere, and combine it with water through

photosynthesis to assemble it into carbohydrates. Some carbohydrates are translocated to the root

of the plant, and may be excreted or assimilated into the soil as organic matter that contains ‘soil

carbon’. This process transfers atmospheric carbon into soil carbon and is the basis of land-based

carbon credit generation (Figure 1). Generating a tradeable carbon credit requires measuring,

verifying, certifying, recording, and tracking the amount of carbon accumulated and retained in the

soil. Much like an exchange traded contract for a commodity, several entities have created

‘Standards’ for the generation of carbon credits.

Contract Standards

Standards define the credit units (e.g., 1 tonne of CO

) and the methods for measuring and

validating accumulation and storage of credited CO

equivalents. Standards may also describe

required components and types of ‘projects’ intended to generate tradeable credits and other

procedures governing accumulation and maintenance of soil carbon. Since there are multiple

entities that facilitate the trade of carbon credits, more than one standard exists. While the various

standards share many similarities, they may also have key differences. Standards may also differ in

their approach to and definition of questions of ‘additionality’ and ‘permanence’ of storage. These

two items often form critical distinctions in how credits are accepted and valued, and

understanding these differences is essential.

Carbon Market Facilitators

Overall, entry into a carbon credit contract is similar to a commodity production contract with

committed future delivery. As such, the carbon market has several participants. The ranch is subject

to production (accumulation) risk, price risk and various transaction risks that may be contained in,

or mitigated by, the specific contract governing the transaction.

PRODUCTION RISK

Capacity to Accumulate Soil Carbon

The fundamental consideration for a rancher contemplating a carbon credit enterprise is the

physical capacity of the ranch to accumulate soil carbon. Strategies associated with ‘good’

grazingland management, that increase forage growth and reduce bare ground, are generally

expected to promote soil carbon accumulation. The uncertainty of soil carbon accumulation rates,

and factors like drought that are beyond the control of managers, can impact these rates and create

‘production risk’. Managers should consider this uncertainty in the development of the soil carbon

accumulation enterprise.

It is difficult to gain precise measurement of soil carbon across large landscapes, and measurements

can vary considerably across a single property or management unit. The change in soil carbon

measurement (% carbon in a soil sample) that represents 1 tonne of CO

per acre is very small, and

reliable detection of small changes generally requires a large number of samples. This inherent

variability creates considerable risk that small changes cannot be detected. Soil sampling is likely to

be the greatest expense incurred in the development of a carbon credit project, and clarity about

the magnitude of soil carbon increase that can be expected coupled with the number of samples

required to detect that change are essential. Managers should seek reliable estimates of soil carbon

accumulation potential and have clear understanding of sampling requirements before entering a

carbon contract.

TRANSACTIONAL RISK

As with any contract, the devil is in the details in carbon storage contracts. There are no ‘standard’

contracts; and terms in currently offered carbon contracts are unique and may be unfamiliar. It is

important to seek counsel from an attorney with experience in negotiating these types of

agreements. The items below provide a starting point for contract evaluation.

Required & Prohibited Practices. Determine what activities will be required and what activities

will be prohibited pursuant to the contract. Ranchers should ensure the contract clearly describes

required practices.

Payments. The payments being offered to landowners can essentially be put into two buckets:

‘payments for practice’ and ‘payments for outcome’. A payment for practice contract is one where a

set payment is guaranteed if a rancher undertakes the required practice. A payment for outcome

contract offers a payment per metric ton of CO

equivalent either captured in the soil or no longer

emitted from production activities.

Term. Most currently offered contracts last 10 to 15 years.

Potential penalties. In every contract there will likely be various penalties that could be triggered

based upon actions by the rancher. Taking the time to understand exactly what actions a rancher

must take — or not take — to avoid penalties is critical.

Stacking prohibition. These provisions generally provide that a rancher cannot enroll the same

land in multiple carbon contracts. Some stacking provisions may state that the rancher may not

participate in any other carbon contract or program. Contracts may also disallow participation in

any government programs and prohibit the receipt of any government payments.

Data provision and ownership. All contracts will require landowners to provide extensive data

about their land and operation. Many contracts allow the purchaser to enter the property for

inspection and allow for aerial views by drones. Most contracts provide that all data generated and

collected under these agreements is the property of the landowner.

Measurement and verification. Measurement and verification are central to any carbon contract.

Clear reference to a standard outlining these requirements is important. Contracts should specify

which party will pay for the cost of any measurements.

Taxes and insurance. A landowner should require the counterparty to the contract or the

purchaser of carbon credits to be liable for any change in property valuation and/or increases in ad

valorem taxes that result from the carbon enterprise. Ranchers should require the purchaser and

any contractors entering the property to carry insurance and to list the manager as an additional

insured.

Amendments and assignments. There are some contracts with amendment provisions that

essentially allow the developer to make any contractual modifications they choose. Ranchers

should pay attention to provisions related to how contracts may be amended.

MARKET RISK AND VALUE OF CARBON CREDITS

Entering into a carbon credit contract is an additional enterprise to the ranch portfolio. The gross

revenue is the contracted price of a carbon credit times the number of credits secured. The gross

unit price of a carbon credit in the United States is currently $18 to $22. Some fraction (often 20%)

of generated credits are not eligible for sale, but are placed into a ‘reserve pool’ as a hedge against

future potential accumulation reversals (i.e., drought). Additionally, fees are assessed by

developers, verifiers, and registries, and sampling costs are incurred. These may represent an

additional 20% or more of gross potential revenue. The net price for generated credits is therefore

60% to 80% of the gross price.

There are multiple companies in this market paying producers to store carbon. There are

differences in the contract terms that may make a given strategy more or less valuable for a given

ranch. These different opportunities should be explored to find the highest value proposition, which

may not always be at the highest transaction price.

In conclusion, the emerging market for carbon credits may offer an important opportunity to

ranchers. As with the addition of any enterprise to the ranch portfolio, the costs, benefits and risks

should be explored to make an informed decision.

To download the complete “Should I Sell Carbon Credits: A Decision Guide for Ranchers” white

paper or view the recorded webinar visit: https://krirm.tamuk.edu/carbon-credits/

Jason E. Sawyer, PhD

, David S. DeLaney, M.S.

, David P. Anderson, PhD

, Tiffany E. Dowell-Lashmet, J.D.

, and

Clay P. Mathis, PhD

;

East Foundation,

King Ranch

Institute for Ranch Management,

Texas AgriLife Extension

Figure 1. Schematic of the global carbon cycle.